Debt Recycling - How to - Common questions answered - Mortgage Broker Topic

Store RepAdrian Player @ Integral Loan Solutions on 08/08/2021 - 15:03

Debt Recycling

Ive had a few comments and emails regarding this topic so i thought id just post a forum thread on the topic.

Ill break it down into 4 parts:

  1. High level explanation on how it works
  2. Self manage / Accountant manage / Fin planner Manage
  3. Lender selection and products needs
  4. Long term goals

High level explanation on how it works

Remember im just a mortgage broker i always recommend if you go down this track you do a lot of online research, speak to people that know a lot on the topic and i always recommend a fin planner or accountant manage it and if you want to self manage you get them to check on your progress at least once a year.

Goal to pay 30 year mortgage in 7-12 years.

Very high level - Converting owner occupied non deductable debt into investment deductable debt which means you can claim interest expense + trading costs + costs of making the investments + getting a 9-16% market return on borrowing costs of 2-3%.

Works really well if you are in the top 2 tax brackets. Because up to 50% of the above costs are deductable come tax time (Always speak to accountants)

Does not work well for people that cant hand 10-20-30% stock market corrections. You need to have a very stable personality if you go down this route.

Example:

1 million dollar property value - Owned the property for 5-7 years
Original deposit 10-20%
Paid the loan down to 600k
While property has gone up to 1.4 mill over the 5-7 years

Goals:

  1. Work out the amount you want to debt recycle total and if you can get that straight away or do a portion now and another portion every 2 to 3 years.
  2. In the above example you've got 600k owner occupied debt to clear
  3. We've got the ability of cashing out up to 80% lvr to avoid lenders mortgage insurance ie 1.4 mill x 80% = 1.12 mill total = 1.12-600k = 520k total

Now that we've worked out the above we refinance:

  1. We pull out 520k in equity and cut it up into 3 or 4 separate loan splits with an offset attached to each loan split?

  2. We invest that money into broad market low cost etfs (Exchange traded funds like Vanguard)

VTS that covers the usa market - 16.66% average return per year since inception which is circa 13 years total - https://www.vanguard.com.au/adviser/products/en/detail/etf/0…

or

VAS - 9.75% average return per year for the last 10 years - which covers the Australian market - https://www.vanguard.com.au/personal/products/en/detail/8205…

  1. So we pull money out at 2.50-3.00% as investment debt and invest it into an asset returning much higher ie 9-16% + have all the tax benefits of investment debt.

  2. Normally the 520k cash out is on INTEREST ONLY variable investment rates.

  3. The investment etf grows

  4. You cover the shortfall in interest expense out of your own pocket per loan repayment since the loan size has gone up by 520k

  5. We set milestone targets where we either have a goal of 7-12 years where finally the etf covers the mortgage then you sell + account for capital gains tax. Then sell and pay off the rest of the mortgage.

  6. Then you choose whether or not you want to continue debt recycling for investment purposes in the future.

Self manage / fin planner / accountant

The fees are tax deductible. My advice is do it the right way and have someone manage it for you. It means you are investing into the process, much more willing to hit that 9-12 year target and more committed. Also you have a professional managing things so its done right.

Lender selection

What requirements in a lender:

  1. Allows multiple loan splits
  2. Allows an offset per loan split
  3. Avoids heavy discharge fees per loan splits. Some lenders do charge per loan split compared to just 1 mortgage
  4. Good over all investment INTEREST ONLY variable rate and
  5. Most lenders want to control the funds if cash out is higher then 100k which means only 8 lenders that i know of allow for large cash outs for this type of purpose without the lender stepping on your foot wanting to control what you do and how you do it.

Which does disqualify a lot of lenders

Long term goals

You can see above if you go down this track you need a long term mind set. You need to be committed. And it allows you to use the tax system and financial system in this country to pay a mortgage off within 7-12 years depending on how well the market goes during that time.

You do have ways to reduce risk:

  1. Broad market etf's does a lot of this - since 1 stock cant tank your investment most of the time the etfs you are invested in hold over 500 stocks each
  2. Getting a low overall interest rate
  3. No self managing and having a professional manage this for you. Its tax deductible if you are in the top tax bracket is 1000% worth it. Half of the fees you pay are tax deductible.
  4. Every tiem you lodge your tax each year your situation gets slightly better.

Yes i havent covered everything. But i hope this allows you a good overview on how this works.

Let me know if you have any questions.

Kind Regards

Adrian Player | Director

M: 0416643638

E: [email protected]

W: www.integralloansolutions.com.au

Adrian Player is a credit representative (498364) of BLSSA Pty Ltd ACN 117 651 760 (Australian Credit Licence 391237).

Financial

Comments

  • FoxJump on 08/08/2021 - 16:15
    +3

    Ops last name checks out. "Player"

    • Adrian Player on 08/08/2021 - 16:15

      Yep just my last name. Legit…..

  • loulou1 on 08/08/2021 - 16:52

    If investing in ETFs, why do I need a professional to do this?

    • Adrian Player on 08/08/2021 - 16:58

      Because many people dont have the skillset to :

      1. Set this up right
      2. Follow through correctly
      3. Set goals and execute on those goals
      4. Have the full set of knowledge around tax / investments / loans / how the stock market works
      5. Many over estimate their ability in the above categories and make mistakes

      Even if you have a mortgage broker that understand 9/10 things needed to make this work. The mortgage broker cant give specific advice.

      So at a bare minimum i suggest an accountant or fin planner check out the initial structure at the start and every year after. Or play a more active role managing it all and providing you quarterly or 6 months updates.

    • demiurge on 08/08/2021 - 17:13
      +4

      Because they want your money.

      • Adrian Player on 08/08/2021 - 17:35

        Im in the top tax bracket and i am using a buyers agent and i will eventually use a financial planner. Even with my skillset i see the value. Most dont.

  • rektrading on 08/08/2021 - 17:52
    +1

    How can people turn $250k to >$500k in 4.5 years without having to deal with broken toilets?

  • AirbusA389 on 08/08/2021 - 18:23
    +3

    OP, you are touting a valid but very complex plan fraught with legal, financial, and market risks. Not everyone have the risk appetite.

    • Adrian Player on 08/08/2021 - 18:33

      I agree 100% it normally only suits a fraction of the people in the top 2 tax brackets.

      • AirbusA389 on 08/08/2021 - 18:45

        a tax lawyer is required to navigate the structures, tax laws, etc. Not sure if it's within your scope to tout this concept so publicly, becos your post can easily be construed as advice.

        perhaps other forums would suit you better.

        • Adrian Player on 08/08/2021 - 18:47

          Im comfortable i mentioned many times in the post for a financial planner or accountant to be involved. But i appreciate the sentiment, i agree its a very specific investment style and needs accountant or fin planner for guidance and structuring.

  • SharedSugar on 08/08/2021 - 19:10

    Why are there multiple loan splits?

    • Adrian Player on 08/08/2021 - 19:31

      Because it's easy to account for that 1 loan split and what the money has been invested to. And to keep the funds separated from each loan split. Easy from an ato stand point to track.

  • drprox on 08/08/2021 - 19:41
    +1

    This stuff is pretty easy guys. If you already have equity, get a separate loan and use that to buy shares/index funds - job done.

    • Adrian Player on 08/08/2021 - 20:04

      In principle yes. In execution i dont think so.

      • cloudy on 08/08/2021 - 21:46

        Can you elaborate on why you don’t think so?

        • Adrian Player on 08/08/2021 - 22:00

          Drprox says its easy all around. I think its easyish if you have a good financial base of knowledge but much harder to implement and control over a long period of time in both structure and management every years especially i you are self managing.

        • jdf on 09/08/2021 - 09:01

          From my understanding, Adrian also recommends using the profits to offset your tax so you get taxed at ~6% compared to 39% like an investment property would work?

          Is this correct, or have I gone way off.

          • idjces on 09/08/2021 - 09:21

            @jdf: Essentially you turn consumer/personal debt into tax-deductible debt. Instead of paying 3% on a mortgage, you still pay the 3%, but end up getting 1% back on tax, so a net cost to you of 2%.

            The savings vary depending on your marginal tax bracket.

            • jdf on 09/08/2021 - 10:08

              @idjces: And also get taxed on the profits made in the ETF’s? Or a profit is only realised when you sell

            • Adrian Player on 09/08/2021 - 11:25

              @idjces: Correct and make a 8-16% rate of return on average as well. On money borrowed at 2-3%.

              Profits are only taxed at the cgt level for holding longer then 12 months for the etf. But any dividends paid during that time are taxed that year at the tax rate unless you are in a dividend reinvestment plan that does not give you the money first then reinvest. Ill give you an example AFI listed investment fund has a different DRIP to ARG listed investment fund. So again do your own research on this item.

              On your other point if im in the top tax bracket circa 50% and i have $2 of cost associated with an investment half of that is claimable due to my tax rate. Same goes for loan set up fees interest expense etc.

              And always check what i say with an accountant and do your own research.

            • Adrian Player on 09/08/2021 - 11:26

              @idjces: Correct iagree with IDC's reply.

  • JIMB0 on 08/08/2021 - 20:22
    +2

    What happens when the next recession comes and the markets crash? How are you going to keep up the repayments when you've lost your job?

    • Adrian Player on 08/08/2021 - 20:40

      Sell the property just like you would if you werent debt recycling if you lost your job and kind find another one.

      • Sweetnsour on 09/08/2021 - 16:40
        +2

        When a recesion comes around not just your shares drop in value. Its most likely correlated with property prices. You're essentially gearing so you are magnifying your gains but also potentially magnifying your losses.

        This strategy is no different to investors buying multiple properties with equity. Its great when markets goes up but when market goes down, you can undo years of hard work in a few months.

        Please tread carefully. You may think you are diversified into stocks but many investments are correlated.

    • bemybubble on 09/08/2021 - 09:41

      Valid Point - Everyone has a different risk profile. Personally I don't borrow for something I can't borrow against…

  • cloudy on 08/08/2021 - 21:51
    +1

    In your example you speak from the perspective of someone who already has a mortgage.

    What if I own my house outright, and want to into the equity and take a few hundred thousand out to invest. What kind of loan is this, how do ones it compare to owner occupied home loan rates?

    • Adrian Player on 08/08/2021 - 21:58
      -1

      You would cash out up to the amount you want and if the purpose of the funds is for investment it would be on invetsment homeloan rates. Normally 0.3-0.5% higher then owner occupied home loan rates.

      • pndl on 11/08/2021 - 10:13

        Some banks lend on security purpose not loan purpose

  • miwahni on 08/08/2021 - 23:44

    I'm curious about the eight lenders that will allow the large cash out? I've been running a similar plan using my LOC for years now, looking at expanding but no-one's doing LOC products any more.

    • Adrian Player on 09/08/2021 - 00:05
      +1

      Yep correct 9 out of every 10 loc products have either been closed or aged ie even if you have one open at a bank they wouldnt allow you to open another one. and the rates are jacked up over 4.50% on the majority of them now.

      Let me know if you need any help, ive got a mate that does 99% investment loans so jointly we've built a list of lenders that will do up to 250k and 1 mill without needing to control the funds.

      • miwahni on 09/08/2021 - 22:02

        will do, thanks. Rate's not too bad at present, for the flexibility offered by a LOC I'm okay paying 3.49%pa. Still remember when it was over 9% in 2008 so this is cheap as chips.

        • Adrian Player on 09/08/2021 - 22:10

          Thats a very good deal for a loc. Id keep it as well if i had that deal knowing you cant open another one.

  • moar bargains on 09/08/2021 - 15:50

    Is the same concept/strategy (borrowing against your property to invest at a higher rate of return), worthwhile for someone without a taxable income? I.e. PPOR owned in joint names, but equity withdrawn and investments purchased in the name of a spouse who is not earning above the lowest tax threshold?

    In that case there would be no tax paid, so it doesn't provide a tax saving, but the benefit (obviously) is that the income is not taxed.

    • Adrian Player on 09/08/2021 - 16:06

      To be honest no not many people do this unless they are in the top 2 tax brackets.

      • moar bargains on 09/08/2021 - 16:17

        So this is really a tax minimisation strategy, as opposed to something else like an investment strategy?

  • knowwhat on 09/08/2021 - 18:53

    Hi OP,
    You are right, this strategy will work for a few.
    With borrowing equity from home loan and converting into investment loan to buy ETF sounds like a good idea.
    But with the ETF dividend payout money, that would need to be declared during tax time and would bump up the income?
    Your thoughts?

    • Adrian Player on 09/08/2021 - 19:00

      Read above i answered this question already to another question. All depends on the type of dividend reinvestment plan you are in.

  • PepperedAngus on 10/08/2021 - 05:34
    +1

    Works well in theory if you can weather the market volatility.

    Too risky for me. I'll stick to the alt coin cryptos.

    • Adrian Player on 10/08/2021 - 08:56

      You are braver in the crypto space then stocks the last few months have had huge swings in crypto!

  • johndowy on 10/08/2021 - 12:27

    Hello, I have a semi hypothetical situation.

    Basically, any way to access equity?

    • Purchased house $500k
    • Current value $700k
    • Current loan $400k (80%)

    My income has remained the same and assuming all things equal (interest rates, duration, income etc.), is there any way to take out the equity and put it into ETFs?

    • Adrian Player on 10/08/2021 - 13:15

      You could pull money out to 700k x 80% = 660k ie 260k on top of your current homeloan.

      • johndowy on 10/08/2021 - 22:55

        Even if my income is the same as before?

        When I first borrowed, they said I was only approved for a max of 400k.

        Won't I fail the servicing and will that be a cash out refinance?

        • Adrian Player on 11/08/2021 - 08:37

          i would suggest you get a broker to check your borrowing power before you start.

  • Team Ozgiftcards on 14/08/2021 - 15:26

    Are you still debt recycling when you take cash out of the investment loan offset to invest?

    • Adrian Player on 14/08/2021 - 15:33

      Not really, because the purpose of those funds were already investment.

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